What is Certificate of Deposit

The introduction of Certificates of Deposit (CDs) in India occurred in the late 1990s. The main intention behind the launch of Certificates of Deposit is to widen the range of money market products in the financial market. Investors can use certificates of deposit to control their short-term assets. In the first quarter of 2022, the bank-issued certificates of deposit (CDs) figure hit a near two-year high, breaking the 1 lakh crore barrier for the first time since the nation went under lockdown in March 2020. Surprisingly, certificates of deposit (CDs) weren’t even a component of India’s financial system until 33-years ago. 

The certificate of deposit (CD) or credit memorandum has a long history. A famous stockbroker from the USA, an expert in government-issued securities, helped in the promotion of certificates of deposit (CD). The National City Bank of New York, today known as Citibank, launched certificates of deposit in 1961, allowing the bank to raise money for lending. In 1964, Barclays Bank in the UK, in partnership with the National Bank of South Africa, adopted this strategy. It results in the acceptability of certificates of deposit (CD), and now certificates of deposit are a frequently used financial tool in India and around the globe.

What Is a Certificate of Deposit?

In the basic transaction, a depositor and an authorised bank or financial organisation enter into an arrangement known as a Certificate of Deposit (CD). Account-holders deposit funds into a bank or financial institution for a set period, and the institution pays interest on the investments. 

The fine-tuned pre-decided period ascertains that depositors cannot retrieve the invested amount before the predetermined period. The verbally expressed investment amount is readily negotiable. The Federal Deposit Indemnification Corporation (FDIC) is in charge of this sum and insures it. The RBI officials introduced certificates of deposit in India in 1989 and now oversee CD investment criteria.

The RBI aims to increment the range of money market instruments, enabling investors in India to manage short-term funds more precisely. They issue CDs in dematerialised form or electronically. Regular savings accounts give low interest rates, while a certificate of deposit (CD) offers higher interest rates.

A bank issues a certificate to someone who deposits money for a period at a specified interest rate. A time deposit, often called a certificate of deposit or credit memorandum, is a financial asset that banks frequently sell. Certificates of deposit or credit memorandum are available in both physical and digital form. The deposit grows in value over time, but it may be subject to fees if taken before the end of the period. After a CD’s maturity date, the depositor has seven days to decide what to do with the money. Even after seven days, if the depositor cannot withdraw funds, it will reinvest. They can encash the matured cash without penalty or on-demand when the extended period has elapsed.

What distinguishes a certificate of deposit from other financial instruments?

The following are the essential characteristics of certificates of deposit:

• The Reserve Bank of India (RBI) has given commercial banks and financial institutions sanction to issue certificates of deposit. However, no regional or cooperative banks can issue CDs.
• Individuals, companies, and corporations are eligible depositors for certificates of deposit. In integration, the RBI issues non-repatriable CDs to non-denizen Indians (NRIs).

Did you know about the recent changes to certificates of deposit effective June 07, 2021?

• The minimum amount in a certificate of deposit is Rs 5 lakh. 
• Certificates of deposit issued by commercial banks have terms ranging from seven days to one year. CDs issued by financial institutions have maturities ranging from one to three years.
• The bank officials give electronically created certificates when transferring Demat forms in accordance with Demat securities requirements.
• Certificates of deposit do not have a lock-in period; hence, authorised banks and financial institutions cannot make loans to depositors against them. However, until the completion period has passed, the money invested is locked in.
• RBI authorities have given commercial banks and financial institutions sanctions to provide CDs. Regional banks and cooperative banks can not issue CDs. However, CDs are available to all individuals in India.
• The Reserve Bank of India allows corporations, trusts, funds, organisations, and non-resident Indians (NRIs) to invest in CDs.
• You must know the period they wish to invest in CDs, keeping in mind that they cannot recover their amount during this tenure. But they can choose a certificate of deposit that offers the highest interest rate within this tenure. You can invest in a certificate of deposit whose interest rate may be on the downside or choose a significant maturity period to offset any risk of loss.
• You should be aware of the CDs whose interest rates may increase in the future, then you can invest wisely. This choice would enable them to renew the CDs at a higher interest rate. Even if the interest rate does not increase, you can protect your money from sudden movements.

What are the Benefits of Investing in CDs?

Here are some benefits of investing in CDs: 

1. A secure investment

Certificates of deposit are a safer investment plan instrument than bonds and equities, as CDs are not subject to the volatility of the financial markets. As a result, their income is unpredictable. But when it comes to CDs, the approved banks or financial organisations that issue them put the money in secure and growth-producing assets.

2. Fixed interest rate

 Certificates of deposit feature a fixed interest rate that remains the same throughout the period of the investment, allowing investors to plan ahead.

3.CDs have higher interest rates than savings bank accounts

Certificates of deposit offer higher profit rates than savings bank accounts and have a fixed earning potential.

4.CDs are a short-term investment alternative

CDs have a limited maturity term, which means that the money invested will only be non-recoverable for a short time. CDs have a unique plus point, and they offer handsome returns for higher maturity terms. In addition, prolonged investment in CDs at different periods yields consequential returns and provides more liberation.

5. Idle capital can be a measurable investment through CDs

CDs are a wise investment for depositors with sizable capital that they do not know how to utilise currently. You can invest money in a CD for a short time and then renew it if necessary.

6.CDs are an excellent long-term investment

Certificates of deposit are suitable for investors with several investment goals and income levels due to their features and benefits.

7.CDs provide a wide range of choices

The RBI has given commercial banks and financial institutions the right to sell CDs. As a result, investors may choose the option that best suits their specific investing goals.

8. Grace period

The depositor can plan future investments using the matured money during the grace period or extend it after the maturity term, which lasts seven days.

How Can You Figure Out How Much Money You Will Make from A Certificate of Deposit?

Commercial banks and financial organisations consider two aspects when issuing a certificate of deposit:

• Discount on face value: The discount rate, often known as the coupon rate, is determined by the bank or financial institution. 
• Based on a floating rate: In India, the interest rate on variable rate CDs fluctuates over time. A CD, the base discount on face value, and the base value on the floating rate are all things that investors need to know. The investor will be able to compute their yearly income using this method. 

FAQs